Download Lecture 14 ItM Pricing II

ICU: INTRODUCTION TO MARKETING
Vladimir V. Bulatov. [email protected]
Lecture 14. Pricing II.
SEQUENCE OF STEPS IN GENERIC PRICE SETTING.
1. Identify pricing objectives and constraints:
objectives: profit, market share, survival, etc;
constraints: demand, newness, costs, competition, etc.
2. Estimate demand and revenue.
3. Determine cost, volume, and profit relationships.
4. Select an approximate price level.
5. Set list or quoted price.
6. Make special adjustments to the list or quoted price.
4. SELECTING THE APPROXIMATE PRICE LEVEL.
A. Demand-based methods.
Skimming pricing (“skimming the cream of profit gradually from different market
segments).
Implemented by setting initially the highest price a certain portion of the market can
accept, and then gradually decreasing the price to stay competitive.
Necessary market conditions:
- enough prospective customers are willing to buy the product immediately at the
high initial price to make these sales profitable;
- high initial price does not attract competitors (due, say, big R&D costs);
- lowering price has only minor effect on increasing the sales volume and
reducing the unit costs;
- customers interpret high price as the indicator of quality.
Penetration pricing (setting low initial price to appeal immediately to the mass market).
Necessary conditions:
- many segments of the market are price sensitive;
- low initial price discourages competitors to enter the market;
- unit production and marketing costs fall dramatically as production volumes
increase.
Prestige Pricing (setting a high price so that status-conscious consumers will be
attracted and buy the product).
<demand curve with positive slope>
Price lining (pricing different product lines at different price levels).
Necessary conditions:
- demand is elastic at every price point, but inelastic in between them;
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Intro to Marketing. Pricing II
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number of price points is limited to 3-5 (because bigger number of quantities
confuse customers).
Odd-Even pricing (setting prices slightly below round numbers [e.g. 499,95], expecting
that customers will see numbers as “below the round ones,” contrary to “approximately
the round ones”).
Necessary condition:
- consumers must not reinterpret odd-even numbering as the indicator of low
quality.
Demand-Backward Pricing (subtracting retailer’s and wholesalers’ revenue margins,
manufacturer can calculate how much money remains for setting own profitable price).
(Compaq made a 3 billion business during 2 years following this pricing approach).
Bundle Pricing (marketing several products in one package).
(Based on the idea that consumers value the “package” more than individual items).
(E.g. Microsoft Office costs consumer $750; however, if its content items would be
purchased separately, the price would be $2190; such wholesale discount should
attract customers, while the manufacture benefits from the economy of scale effect).
B. Cost-Based methods.
Standard Markup Pricing (when the number of products is significant, demand
estimation will outweigh any possible financial benefits; in this case product prices are
formed by adding a fixed percentage to the cost of all items in a specific product class).
(Such method is often used in supermarkets, where expressive product variety is
present).
The lower is the channel of distribution (wholesaler  retailer) the greater usually is the
cost markup.
Cost plus Percentage-of-Cost Pricing (adding fixed percentage to the
production/construction cost).
(E.g. architect’s fee is 13% of the construction cost of a house).
Cost plus Fixed Fee Pricing (when the cost cannot be exactly estimated, any
supplemental expense is stated as fixed fee; e.g. despite the construction cost of space
shuttle [which is to be fully compensated], a fee to McDonnell Douglas for its provision
would be in any case $100.000.000).
Experience Curve Pricing (the method is based on the learning effect, which holds that
unit price of a product declines by a certain percentage when production volume
doubles).
(e.g. if the estimated cost falls on 15% when volume doubles and initial price is $100,
then 100th unit’s price will be $85, 200th - $72,25; etc. Since the tendency is
mathematically tractable, then the price predictions can be made easily and precisely).
C. Profit-Based Methods.
Target Profit Pricing <page 397: read the example>.
Target Return-on-Sales Pricing (target profit, although simple, does not show how
much effort must be spent to earn one; return-on-investment method, however, does,
because it includes the volume of sales in the calculations).
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Intro to Marketing. Pricing II
Target Return-on-Investment (profit must be a percentage of invested capital; since a
significant number of variables is involved, electronic spreadsheets are better to use
when this pricing method is applied [see Figure 15-6]).
D. Competition-Based methods.
Customary pricing (in the environment where several competitive factors dictate a price
[traditions, channel of distribution, etc], this pricing method is most applicable; e.g. all
sellers offer candy bars at approximately $0.50).
Above-, at-, or below-market pricing (Rolex – above; known brands – at; unknown/new
brands – below).
Loss-Leader Pricing (lowering price below cost for some products with the purpose of
attracting customers and expecting them to purchase some other goods, which have a
significant price markup).
Sealed-Bid Pricing (a significant volume of purchase is announced, and
sellers/manufacturers are invited to propose offers; afterwards, all offers are evaluated
and the winner with the best proposition is chosen).
5. SET THE LIST OR QUOTED PRICE.
One-price vs. flexible price policy. (Stated vs. negotiable prices).
In strategic perspective, all costs must be covered and (unless the org. is non-profit)
profit must be generated.
Incremental costs must be offset by incremental revenues (any extra expenditures
must be offset by extra surplus).
Company, customer, competitive effects.
Company effects: e.g. pricing the products the way not to cause cannibalization.
Customer effects: e.g. customer psychology [e.g. pricing not below 20-25% of brand
manufacturers for unknown products].
Competitive effects: e.g. potential price responses from competitors must be
anticipated.
6. MAKE SPECIAL ADJUSTMENTS TO THE LIST OR QUOTED PRICE.
Discounts (quantity; seasonal; trade [functional] – e.g. lower prices for agents and
wholesalers; cash discounts).
Allowances.
Trade-in allowance: reduction of the product price when old version of the product is
brought back to the seller.
Promotional allowance: either actual cash payments or extra free goods for
undertaking certain advertising or selling activities.
Geographical Adjustments
Non-uniform and uniform geographical pricing.
INCOTERMS conditions affecting the final price.
Legal and regulatory aspects: read in the book.
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Intro to Marketing. Pricing II